FX Daily: Even odds for a Russia central bank rate hike

Despite the post-Fed meeting sharp rise in US Treasury yields and the fall in equity markets yesterday, the spillover into FX markets has been fairly muted (particularly given the scale of the UST sell-off yesterday), underscoring the two-way risk outcomes surrounding the latest Fed decision.

First, by allowing to run the economy hot and leaving the long end US Treasuries unprotected, the risk of another sell-off in USTs is a potential headwind to cyclical FX (as observed in February). Second, the signal to not rush to increase interest rates, the prospect of deeply negative USD front end real rates and the rebounding economy point to USD softness.

As long as the former does not dominate (which tentatively seems to be the case as FX markets remain relatively resilient in the context of yesterday’s UST sell-off), this should provide some breathing room to cyclical FX ahead of the anticipated economic recovery in Q2.

In Japan, the BoJ meeting overnight delivered some modest changes to its operations (the BoJ widened the band around the 10-year JGB target from c.0.20% to c.0.25%) had a limited impact on JPY, with the currency’s outperformance overnight being more tied to the dip in Asian equity markets (the safe haven CHF also outperforming) rather than Bank of Japan's decision.

With the AstraZeneca vaccine obtaining clearance from the EMA yesterday, the downside to the already modestly undervalued EUR should be limited today.

We expect EUR/USD to hold above 1.1900 today

The Bank of England meeting didn’t rock the upbeat sterling boat yesterday and the constructive GBP outlook remains in place.

With the BoE not materially leaning against higher gilt yields and the currency strength, GBP is set to continue reaping the dividend of the faster vaccination process.

Our economists see the odds of a rate hike by Russia's central bank today as 50:50.

Higher than expected March inflation of 5.8% YoY, the hawkish rhetoric and the recent deterioration in US-Russia relations all make the case for the central bank potentially making a move today. On US-Russia relations, although the RUB was hit, the sell-off was not meaningful enough to ring inflation risk bells.

If the central bank chooses to wait with tightening today, any knee-jerk reaction should be higher USD/RUB, given the non-negligible market pricing of hikes and other emerging market central banks already delivering tightening this week (Turkey and Brazil).